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When and How is a Regional Trade Agreement Compatible with the WTO?
MARCEAU, Gabrielle Zoe, REIMAN, Cornelis
MARCEAU, Gabrielle Zoe, REIMAN, Cornelis. When and How is a Regional Trade Agreement Compatible with the WTO? Legal Issues of Economic Integration , 2001, vol. 28, no. 3, p.
297ss.
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When and How Is a Regional Trade Agreement Compatible with the WTO?
By Gabrielle Marceau and Cornelis Reiman*
Abstract
As a consequence of regional trade agreements (RTAs) expansion, the WTO is confronted – more than ever – with Members being offered preferential treatment when joining RTAs, whilst those outside the RTA allege that such arrangements cause a negative impact. In a landmark report in the dispute on Turkey – Textiles, the WTO Appellate Body made a strong call for law and order among WTO Members. The decision states clearly that the formation of an RTA may justify measures that are inconsistent with GATT rules, but only after having demonstrated (1) the full compatibility of the RTA with Article XXIV:(5) and (8) of GATT and only (2) if the formation of the RTA would have been prevented otherwise. While reinforcing the threat of dispute settlement, the Appellate Body decision almost introduces a reverse consensus rule suggesting that, unless otherwise proven, any RTAs and RTA preferences are contrary to the WTO multilateral rules.
In its Report on Turkey – Textiles, the Appellate Body urged WTO Members to assume their responsibility towards the multilateral system and to exercise – with maturity – the monitoring of RTAs. So far, WTO Members have behaved like ostriches, hoping that this difficult issue would go away.
The number of RTAs – and their coverage – are, increasingly, making the assessment of RTAs even more difficult. As a consequence of the rules on the burden of proof, this means that RTA states have even less chance of being able to demonstrate that their RTAs are WTO compatible. Obviously, the proliferation of RTAs does not increase their WTO compatibility.
This paper offers modest solutions to facilitate the monitoring of RTAs based on past GATT/WTO experiences – namely the tariffication exercise performed during the Uruguay Round for the Agreement on Agriculture. It adds suggestions involving more serious time-limit constraints, presumption rules, the possibility of negative inferences and the increased involvement of
Legal Issues of Economic Integration28(3): 297–336, 2001.
© 2001 Kluwer Law International. Printed in the Netherlands.
* Gabrielle Marceau, Ph.D., is Counsellor in the Legal Affairs Division of the World Trade Organisation. Cornelis Reiman, Ph.D., is a Lecturer in the Department of Management at Monash University in Australia. The views expressed herein are personal views of the authors and do not engage the WTO Secretariat or the WTO Members. All mistakes are attributable to the authors. We have greatly benefited from comments and discussions with Carmen Pont- Vieira. Our thanks extend also to Melinda Moosa for her assistance.
third-party support, such as that of the WTO Secretariat, to facilitate this exercise.
WTO Members’ actions in this field are urgent. Short of proper tools, and caught in the meandering of consensus decision-making, the important matter of the WTO compatibility of RTAs may well end up before WTO adjudicating bodies. Will WTO Members, once again, abdicate their respon- sibilities in favour of the WTO adjudicating bodies?
1. Introduction
Certainly, the ‘groupings of states by a common bond of policy’1have existed for many years: the former, wide-reaching British Empire is an obvious example.2 Article 21 of the Covenant of the League of Nations recognized, in 1921, the co-existence of regional groupings and the, then, new global organization.3 Similarly, Article 52 of the Charter of the United Nations encouraged regional arrangements.4 The economist Viner wrote that the rationale for a customs union – being a type of RTA – had to be political.5 In 1950, he analyzed most of the numerous customs unions or integration agreements that had existed for centuries and concluded that racial, language and cultural reasons seemed to have been the main determinants of the
1. D. Bowet, The Law of International Institutions, 1982, p. 161.
2. For a list of existing arrangements before and after World War I, seeJ. Viner, The Custom Union Issue, 1950.
3. Article 21 of the Covenant of the League of Nations: ‘Nothing in this Covenant shall be deemed to affect the validity of international engagements such as treaties of arbitration or regional understandings like the Monroe doctrine for securing the maintenance of peace’.
4. Article 52(1): ‘Nothing in the present Charter precludes the existence of regional arrangements or agencies dealing with such matters relating to the maintenance of international peace and security as are appropriate for regional action provided that such arrangements or agencies and their activities are consistent with the Purposes and Principles of the United Nations.’
5. Viner argued that ‘strong countries will not voluntarily enter into the union except as part of a political union and for predominantly political reasons’; seeJ. Viner, The Customs Union Issue, 1950, p. 69. Later he writes that small countries mainly want to form regional arrange- ments for economic reasons while more powerful states tend to do it for political reasons. See J. Viner, Idem, pp. 91–92. See alsoa similar discussion in the context of the EEA and the reasons for EFTA states to join the EEA as opposed to the reasons for the EEC to do so: J. Stragier,
‘The Competition Rules of the EEA Agreement and their Implementation’, E.C.L.Rev., vol.
14, issue 1 (1993), p. 30.
formation of regional arrangements.6 El-Agraa agrees with him: ‘In reality almost all existing schemes of economic integration were either proposed or formed for political reasons even though the arguments popularly, therefore, put forward in their favour were expressed in terms of possible economic gains’.7 For them, there seems to be no doubt that political considerations are an admitted rationale for the creation of free-trade areas and other regional arrangements.
Regionalism can, thus, be viewed from the perspective of the fundamental need of states for security and related trade relations. Regionalism, thus, allows states with similar concerns to align themselves. The difficulties of attaining universalism or multilateral relations – due to obvious, comparative differ- ences in power, culture and needs – are the reasons for regionalism. Within a smaller regional forum, a consensus may more easily be reached. Certainly, regional arrangements were an essential element of post-World War II reconstruction8 and it is reasonable to expect that the GATT 1947 recog- nized this.
The issue of the duality between regional trade agreements (or even regional trade blocks) and the need to guarantee an open and fair multilateral trade system – such as that of the GATT 1947, and now the World Trade Organisation (WTO Agreement) – has been the subject of long and heated debates confronting economists, lawyers and political experts. As a matter of fact, trade liberalization under the GATT 1947 paralleled a process of increasing economic integration among contracting parties: for instance, from 1948 to the end of 1994, 107 RTAs were notified to the GATT under Article XXIV, out of which 36 remain in force.9 Yet, because the GATT provides that the compatibility review process takes place at the initiative of the Contracting Parties, after the RTA has been notified to the GATT Secretariat – and because the Contracting Parties only take decisions on the basis of consensus – there have been no clear-cut assessments of full
6. J. Viner, Idem, p. 95. He also adds at p. 103: ‘customs union preceded by close association of language, race, culture or need of unity for external danger. … To accept as obviously true the notion that the bonds of allegiance must necessarily be largely economic in character to be strong, or to accept unhesitantly the notion that where the economic entanglements are artificially or naturally strong the political affections will also necessarily become strong, is to reject whatever lessons past experience has for us in this field. The power of nationalist sentiment can override all other consideration; it can dominate the minds of the people, and dictate the policies of government, even when in every possible way and to every conceivable degree it is in sharp conflict with what seems to be and are in fact the basic economic interests of the people in question’.
7. A. El-Agraa, International Economic Integration, 1982, p. 7 and at p. 126 in the 1988 edition.
8. A desire for security pushed the USA to encourage the integration of Europe when the EEC was being tested in GATT for its compatibility with Article XXIV. On this issue, seeF. Haight,
‘The Customs Union and Free-Trade Area exceptions in GATT’, J.W.T.L. vol. 6 (1972), p. 392.
9. 19 RTAs have been notified under the Enabling Clause.
consistency with the rules.10Similarly, there appears to be no agreed process by which to assess the economic impact of an RTA – whether existing or proposed.
As alluded to above, RTAs have greatly increased in number and impor- tance since the establishment of the GATT in 1948.11 The economic and political realities that prevailed when Article XXIV (authorizing some RTAs) was drafted have evolved and the scope of RTAs is now much broader than it was in 1948, thereby embracing – all and more – issues than those dealt with by the WTO Agreement. The perception that RTAs could contribute to the expansion of world trade was reiterated during the Uruguay Round when negotiators re-visited certain aspects of Article XXIV in an endeavour to clarify some of its provisions in the GATT 1994 Understanding on Article XXIV. The widening appeal of regional integration continued after the conclusion of the Uruguay Round, and the establishment of the WTO. In the 1996 Ministerial Declaration of Singapore, for example, Members reaffirmed the primacy of the multilateral trading system after having noted the importance of existing regional arrangements involving developing and least- developed countries, as well as the need to further analyse and clarify the relationship between the system of WTO rights and obligations, in addition to the expansion and extent of RTAs.
An important change was brought forth by the new GATT 1994 Understanding on Article XXIV (and the provisions of Articles IV and XXIII of GATS) wherein it is now provided that any matter relating to the application of Article XXIV can be the object of the new binding and manda- tory dispute settlement procedures. It is in this context that, for the first time, a WTO panel and the Appellate Body issued their rulings in the Turkey – Textiles dispute on the relationship between the GATT/WTO rules guar- anteeing non-discriminatory multilateral trade and the parallel permission for WTO Members to enter into RTAs. The Appellate Body surprised many in stating that one of the conditions for WTO Members to be able to invoke Article XXIV as a defence against a claim that discriminatory preferences have been given to some WTO Members, but not to others, was the demon- stration – before WTO adjudicating bodies – that the duties and other regulations of commerce with Members not parties to the customs union were not, on the whole, more restrictive after the formation of the customs union than before. For the Appellate Body, this condition was an economic test.
10. Only for the customs union between the Czech and Slovak Republics were contracting parties able to conclude that the customs union was GATT compatible.
11. For a historic and graphical representation, seeFigure II.1 in WTO (1999), Report of the Panel on Turkey – Restrictions on Imports of Textile and Clothing Products, WT/DS34/R, (Turkey – Textiles) adopted as amended by the Appellate Body Report on 19 November 1999. Since 1 January 1995, more than 70 new RTAs were notified under Article XXIV of GATT (and some pursuant to Article V of the GATS), most of which are presently in force. As of 2001, there are 121 RTAs notified to the WTO that are still in force.
In this paper, we review – briefly – the economics of regional trade integration agreements and the classical tests suggested to assess their impacts, namely in referring to traditional trade diversion and trade creation criteria.
As many have done before, we conclude that these tests could not be used in the WTO context for various reasons, including the fact that – pursuant to Article XXIV of GATT 1994 and Article V of the GATS – the overall impact of an RTA may need to be demonstrated before its entry into force or very early on. We suggest a simplified economic assessment that could be based on the overall comparison of the situation before and after the formation of the customs union (CU), using a tariffication exercise similar to that performed during the Uruguay Round for agricultural products.
With tighter deadlines and presumptive rules, together with a more active role of the Secretariat, such suggestions may encourage the Committee on Regional Trade Agreement (CRTA) actions, and avoid Panels and the Appellate Body from entering a veritable minefield of problems.
2. Economics of Regional Trade Agreements12
As stands to reason, RTAs are an economic, political, social and legal reality.
Certainly, economic integration has a long history and encapsulates the inter-country policies of reducing or removing trade barriers on a discrimi- natory basis – with particular focus upon countries that agree to join together.13 Basically, RTAs arise for an assortment of reasons, such as the need for political or economic integration, foreign policy or national security, as well as for members to gain access to larger markets.14The role of industry lobbying is, of course, an influential factor, although the political will is usually an overriding consideration.15Additionally, RTAs might secure trade liberaliza- tion that could not otherwise become available, especially if multilateral processes of WTO rounds take longer than is acceptable to countries keen
12. For a thorough treatment of the economic theory dealing with RTAs, seeA. Panagariya (2000),
‘Preferential Trade Liberalization: The Traditional Theory and New Developments’, Journal of Economic Literature, Vol. 38, pp. 287–331. Also, refer to R. Snape (1993), ‘History and economics of GATT’s Article XXIV’, as well as J. McMillan (1993), ‘Does regional integration foster open trade? Economic theory and GATT’s Article XXIV’, with both papers in K. Anderson and R. Blackhurst (eds.), Regional Integration and the Global Trading System, New York, St.
Martin’s Press, pp. 273–291 and pp. 292–310, respectively. For general commentary, seeWTO, (1995), Regionalism and the World Trading System, Geneva, April.
13. Refer to J. De Melo, A. Panagariya and D. Rodrik (1992), ‘The New Regionalism: A Country Perspective’, in J. De Melo and A. Panagariya (eds.), New Dimensions in Regional Integration, Cambridge, Centre for Economic Policy Research/Cambridge University Press, pp. 159–193.
14. SeeB. Hoekman and M. Kostecki (1995), The Political Economy of the World Trading System – From GATT to WTO, Oxford University Press, Oxford – especially Chapter 9.
15. SeeG. Marceau (1994), Anti-Dumping and Anti-Trust Issues in Free-trade Areas, Oxford, Clarendon Press.
on trade reform.16This latter point could well have contributed to the surge in RTAs registered by the WTO during and after the extended Uruguay Round. After all, it is likely to be easier to have two, or a few, countries agree on mutually beneficial trade reforms than is possible through the consensus of all WTO Members. The United States, for example, decided to negotiate RTAs with trading partners in the 1980s, partly because of its dissatisfaction with the refusal of GATT partners to initiate multilateral trade negotiations in 1982.17
Parties to an RTA offer to each other more favourable treatment in trade matters than to the rest of the world (including WTO Members). As is shown below, the actual depth of such preferential treatment varies from one RTA to another. It might involve only trade in goods, or might apply also to trade in services.
2.1. Types of regional trade preferences
Economic groupings of states can be presented in five main categories, based on their respective level of integration:18Preferential trading arrangements where intra-group trade barriers, such as tariffs, are reduced on specific items but does not alter such for non-members;19a free-trade area (FTA) is where intra-group trade barriers on nearly all trade between Members are abolished, yet each Member Country still maintains its external barriers to trade with non-members;20a customs union is where group members abolish barriers to nearly all the trade between themselves and also implement similar trade policies vis-à-visnon-members; further, customs revenue is apportioned;21
16. This is suggested by commentators, such as B. Hoekman and M. Kostecki (1995), The Political Economy of the World Trading System – From GATT to WTO, Oxford University Press, Oxford 17. Ibid.,p. 216.
18. On the definition of customs union, free-trade areas, common market, economic union and political union see among many authors: P. Robson (1990), The Economics of International Integration; M. Jovanovic (1992), International Economic Integration; A. El-Agraa (1988), International Economic Integration; A. El-Agraa and J. Jones (1981), The Theory of Customs Union;
J. Viner (1950), The Customs Union Theory.
19. An example of this is the British Commonwealth Preference Scheme of 1932, embracing the United Kingdom, as well as current and former members of the British Empire at that time.
20. Before the GATT, a ‘free-trade area’ was traditionally defined as an imperfect customs union.
Since there are differences in external tariffs, the country with the lowest tariffs could ‘let in’
products that are usually restricted or non-existent in the Member State with higher tariffs.
‘Rules of origin’ must, therefore, be designed to confine intra-area free trade to products orig- inating in, or mainly produced in, that free-trade area. The purpose of rules of origin is, thus, to limit the benefits of the agreement to producers of the Member States only.
21. ‘Customs union’ is the oldest concept where a group of States offer trade privileges exclusively to each other. Most studies of regional arrangements start with an analysis of customs union and then distinguish other types of integration.
a common market22 extends the CU arrangements by allowing intra-group mobility of labour and capital, as was done by the European Communities via the 1986 plan of action by the end of 1992; an economic union is where the integration is deepened beyond a common market by promoting common economic policies and a common monetary unit (this entails unifying monetary and fiscal policies of Member Countries); and, political unions assume a union with a single economic policy and a supranational govern- ment; resulting in a confederation that also enjoys great economic unity.
This list of RTAs is not exhaustive and there are various mid-term levels and forms of economic integration. The European Economic Agreement (EEA) is, for instance, more than a usual free-trade area (since competition policies and legislation have been completely harmonized) but less than a customs union since member states do not share the same external economic policies.
Article XXIV:8 of GATT 1994 only deals with two types of RTA, arguably because the last three types referred to above are different versions of a customs union with increased depths of integration, but where trade rules with third countries are similar to that of a customs union.
2.2. Assessing the impact of RTAs
The prevailing view until the seminal work of Viner in 1950, was that RTAs are beneficial to colluding countries and their governments.23 Certainly, RTAs can lead to trade creation if the member countries are considered in isolation. However, RTAs can also cause trade diversion when non-member countries are also considered. Trade creation and trade diversion are, there- fore, criteria frequently used in trade theory to assess the impact of RTAs.
In practice, one must acknowledge that there are many confounding factors that can mask the extent of either effect. Such influences include shifts in factors of production – labour, capital, as well as technology – in addition to other issues, such as comparative changes in inflation, exchange rates and tariff levels. It should not, therefore, come as a surprise to learn that economic assessments of RTAs are not considered to be conclusive and, thus, are not convincing. A simple approach is, thus, necessary. Even so, it is worth con- sidering the components of extant analysis before suggesting any improvement.
Given that the primary considerations are trade creation and trade diver- sion, these are considered in turn.
22. The concept of ‘common market’ is said to have been introduced by the Spaak Report in 1956.
23. J. Viner (1950), The Customs Union Issue, New York, Carnegie Endowment for International Peace.
2.2.1. Trade creation in RTAs
Trade creation arises from the increased trade between members of a trade agreement when trade barriers between them are lowered or removed com- pletely. For example, zero-tariff products from the new RTA partner replace tariff-laden imports that previously entered into a country. Trade often rises when internal tariff walls fall. The effect of trade liberalisation of the integrated entity is that member countries can produce and trade in relation to their comparative advantages, rather than have resource allocation affected by market intervention, such as tariffs. It is also likely that domestic production of a Member State is replaced by imports from a member of the RTA that is a more efficient producer.
Given increased access to a larger market due to trade liberalization, industries in an RTA are able to pursue larger production runs and the associated economies of scale. This will reduce average costs of production and enhance price competitiveness. Thus, large-scale competitive producers gain strength in the regional-trade area, as well as in the international market.
2.2.2. Trade diversion in RTAs
When new RTA members seek products from other RTA Members, trade with non-members falls. Trade diversion, therefore, results from a redirection of previous trade flows due to the inherent trade bias against non-members of an RTA. Note that prior imports may have come from an efficient world producer. The RTA partnership then diverts, or deflects, trade away from the efficient external producer to a less efficient producer within the RTA, doing so in accordance with RTA conditions of membership. Basically, this negative impact is the effect of preferential policy of the integrated regional entity.
Simply, if the resultant trade creation is larger than the trade diversion, then there is a net benefit as economic welfare rises; however, if trade diversion exceeds trade creation then economic welfare falls. This static analysis has, generally, been the mainstay of RTA assessments by economists for the past 50 years. There are, however, two approaches for empirically assessing the economic welfare impact of RTAs.
(i) The ex postapproach assesses the effects of an RTA membership after it has taken place, such as in measuring the trade diversion and trade creation effects, as suggested earlier in this paper.24Obviously, an ‘after
24. For examples, seeS. Nicholls (1998), ‘Measuring Trade Creation and Trade Diversion in the Central American Common Market: A Hicksian Alternative’, World Development, 26(2), pp.
323–335; also, E. Fukase and W. Martin (1999), ‘Economic Effects of Joining the ASEAN Free- trade Area (AFTA) the Case of the Lao People’s Democratic Republic’, World Bank paper, April 3; as well as M. Kreinin (1972), ‘Effects of the EEC on Imports of Manufactures’, The Economic Journal, September, pp. 897–920.
the fact’ analysis is of no direct consequence to any country seeking justification for RTA formation or expansion.
(ii) The ex ante/simulation approach, however, assesses the impact by way of a partial or general equilibrium economic model that contains functions expected to change because of RTA formation or expansion.
At a basic level, these economic models include the responsiveness of supply and demand to changes in price for products within the region and for those involving trading partners. Further considerations include income, investment and consumption effects experienced by people in the economies under review, as well as the possible extent of product substitutability. This approach seeks to replicate the economies of RTA Members and new or proposed members. These artificial economies are then exposed to the known changes of RTA expansion or membership. The ‘before’ and ‘after’ results can be compared to assess any changes, such as in economic welfare.
Although it is difficult to conduct such work, considerable analysis exists in this area.25Essentially, economics can approximate the magnitude of the static effects mentioned above. However, analysis that is static in nature does not account for dynamic growth effects. That international transactions are governed by many factors results in very expansive simplifying assumptions.
2.2.3. Other factors affecting trade estimations
Certainly, the estimation of trade creation and diversion is a complex process.
Numerous analysts and commentators26suggest that changes in trade volumes attributed to RTAs are influenced by assorted confounding factors, such as:
• trade creation and diversion existing within the union;
• changes in the flows of capital and labour;
• changes in the general level of prices;
• changes in exchange rates.
Some have argued that the success of economic integration could be seen as something that comes more easily to developed countries than to developing
25. For further research results in this area, and associated discussion, seeT. Srinivasan, J. Whalley and I. Wooten (1993), ‘Measuring the Effects of Regionalism on Trade and Welfare’, in K.
Anderson and R. Blackhurst (eds.), Regional Integration and the Global Trading System, New York, St. Martin’s Press, pp. 52–79; also, J. Serra, G. Aguilar, J. Córdoba, G. Grossman, C.
Hills, J. Jackson, J. Katz, P. Noyola and M. Wilson (1997), Reflections on Regionalism – Report of the Study Group on International Trade, Carnegie Endowment for International Peace, Washington.
26. For example, M. Kreinin (1995), International Economics – A Policy Approach, Dryden, Fort Worth, p. 119; also, Yarborough and Yarborough (1997), The World Economy – Trade and Finance, Fourth edition, Dryden, Fort Worth.
countries. This is, in part, due to the developing countries in the same region, such as Africa, having very similar factor endowments, associated comparative advantages and trade patterns, particularly in relation to the need for goods and services from non-member countries. Consequently, this would not offer the scope for any significant trade creation advantages.27Analysis relating to Mercosur, for example, shows that the maintenance of RTA-level preferential practices against non-members increased trade diversion because intra-RTA trade is generally comprised of goods in which members do not have a comparative advantage.28As a result, resources are allocated on the basis of unnatural market signals, such as higher prices due to the continuance of tariff protection. Further, an associated lack of competition in outside markets suggests that the Mercosur RTA has a detrimental effect upon members and non-members.29
As was introduced above, there is, of course, a need to acknowledge the political considerations that can also affect the success of any RTA.30 Such factors might, however, prove to be elusive when seeking robust measurements.
Even so, some factors have an a priori bearing on the relative size of the trade creation and trade diversion effects. These include:
• the larger the group, the greater is the chance of embracing lowest- cost producers, thereby minimizing trade diversion;
• similar production patterns in integrating countries will lead to greater scope for trade creation if there are differences in production costs;
• the fall of high initial tariffs encourages trade creation and the growth of economic welfare;
• low trade barriers lead to lower trade diversion.
The evidence of dynamic effects, therefore, suggests a greater complexity than can be captured by the static measures commonly used. Consider that the increased economic base – resulting from an integration of countries – can expand the size of the market. Larger production runs and economies of scale are, thus, possible. This can increase competition. Further, increased intra-region competition could lead to industry specialization that leads to the following of comparative advantage. Of course, non-members see their exports fall and, thus, also their market access and economic growth rates. Certainly,
27. Note that Cameroon is judged to have gained from RTA membership, if only because of its regional power. SeeF. Bakoupa and D. Tarr (1998), How Integration into the Central African Economic and Monetary Community Affects Cameroon’s Economy: General Equilibrium Estimates, Working Paper No. 1872, World Bank Group, January.
28. A. Yeats (1998), ‘Does Mercosur’s Trade Performance Raise Concerns about the Effects of Regional Trade Arrangements?’, The World Bank Economic Review, 12 (1), January, pp. 1–28.
29. Ibid.
30. G. Marceau (1994), Anti-Dumping and Anti-Trust Issues in Free-trade Areas, Oxford, Clarendon Press.
economies may evolve differently over time as a consequence of economic integration.
There is also an investment impact. As stands to reason, market expan- sion stimulates domestic and foreign investment and, thus, also growth rate potential. Investment creation and investment diversion, therefore, is also a possible result of RTAs, such as via multinational corporation reorganisa- tion, or the establishment of production facilities to, say, take advantage of new trade opportunities. As a consequence, when any two or more countries agree to liberalize mutual trade arrangements – and expand their economies through increased industrial growth – there will be an invest- ment inflow to take advantage of perceived gains. The rise in investment, particularly when it is direct, will add to economic growth and welfare of the member countries.31
In contrast, foreign direct investment in a region maintaining tariff barriers against the rest of the world is attracting the investment unnaturally by way of market and price intervention. This would, of course, lead to a less than effective allocation of resources and, thus, a fall in global economic welfare.
Although we may expect that an RTA would see a shift in industries, the creation of the EEC did not lead to large-scale contraction of entire indus- tries in any one country and their replacement by imports from another member. Perhaps this was because affected industries reinvented themselves to adapt to the new regime of increased competition. Consequently, they found their industry niche, thereby specializing in production, trading according to comparative advantage, exploiting potential economies of scale and remaining in business.
Increases in real income that arise from positive economic welfare benefits of an RTA – such as through specialisation in production and trade creation – can lead to increased imports from non-member countries. In fact, it is suggested that the correct way to judge the overall economic effect of a regional arrangement is to compare real income under the arrangement with that occurring if there were not an RTA, but this is a difficult approach to take due to the complexity and magnitude of the task.32
For the sake of simplicity, one criterion for assessing RTAs should, thus,
31. SeeR. Fernandez (1997), Returns to Regionalism: An Evaluation of Nontraditional Gains from Regional Trade Agreements, Working Paper No. 1847, World Bank Group, November. In addition to bargaining power, this paper examines several possible benefits that regional trade agreements may confer on their partners, including credibility, signalling, insurance, and a mechanism for coordination. Consequently, uncertainties are reduced, thereby making it easier for the private sector to plan and invest.
32. P. Wonnacott and M. Lutz (1989), ‘Is There a Case for Free Trade Areas?’, in J. Schott (ed.), Free Trade Areas and US Trade Policy, Washington, Institute for International Economics, pp.
59–84.
be the economic welfare of non-RTA members.33 Accordingly, we see that the process of RTA assessment – on economic grounds – can be simplified to the point where the economic welfare of non-RTA members will be protected if their exports to the RTA and/or new RTA member remain unchanged. However, this scenario would also need to maintain the existing terms of trade to ensure that non-RTA welfare is maintained. Consideration is, therefore, needed as to the value of the net trade balance before and after any RTA formation, or the addition of a new member.34 Again, this is problematic in the ex-ante case when several other influential factors are at work in the global arena.
Even so, one can see that the assessment of the impact of an RTA can still be constructed as one that determines whether trade volumes and product prices are likely to alter considerably as a consequence of RTA formation or expansion.35 However, this assumes that global forces elsewhere would, of course, not affect world product prices, as well as world trade levels of products under consideration.
Given this view of the economic issues associated with RTAs, we suggest that an economic assessment would need to consider the recent and/or expected shifts in the two particular measures of interest, specifically, trade flows and terms of trade per industry sector. Further, the trade flows would need to be viewed in relation to world trade in order to account for global forces that can reduce a country’s trade flows without the influence of any particular RTA formation or expansion. On that basis, we suggest that a customs union’s impact assessment could be based – at least partly – on the overall comparison between the potential trade flow situation before and after the formation of the CU. As a proxy, this could be done by trying to isolate the level of import protection – before and after the formation or expansion of the customs union – using a tariffication exercise similar to that performed for agricultural products during the Uruguay Round.
3. Regional Trade Agreements and the GATT/WTO multilateral rules RTAs existed before the GATT 1947 and the GATT rules recognize their existence, as well as their potentially beneficial and detrimental effects for
33. A suggestion attributed to J. McMillan (1993), ‘Does Regional Integration Foster Open Trade?
Economic Theory and GATT’s Article XXIV’, in K. Anderson and R. Blackhurst (eds.), Regional Integration and the Global Trading System, New York, St. Martin’s Press, pp. 292–310 34. As suggested by A. Panagariya (2000), ‘Preferential Trade Liberalization: The Traditional Theory
and New Developments’, Journal of Economic Literature, 38, pp. 287–331 (at p. 327), also see J. McMillan (1993), pp. 292–310,
35. For example, seeA. Winter and W. Chang (2000), ‘Regional Integration and Import Prices:
An Empirical Investigation’, Journal of International Economics, 51, pp. 363–377.
multilateral trade. But what is the test suggested by the GATT/WTO to identify and distinguish the beneficial RTAs from the detrimental ones?
3.1. The desirability of preferential Regional Trade Agreements
The basic GATT principle of non-discrimination, expanded with adapta- tion to trade in services in the WTO Agreement, is the very essence of the WTO multilateral trade system. These non-discrimination obligations apply vis-à-visto all forms of imports from all WTO Members (most-favoured nation principles) and vis-à-vis domestic products, or domestic services or services suppliers in sectors for which a Member has made specific commitments under the General Agreement on Trade in Services (GATS) (the national treat- ment obligations).
Parallel to this general non-discrimination principle, and as a means of increasing freedom of trade, Article XXIV of GATT recognizes that customs unions and free-trade areas between WTO Members may be desirable. To this end, Article XXIV of the GATT and Article V of the GATS provide for the possibility that Members forming an RTA may depart from WTO obliga- tions.36
There are a number of indications as to the broad desirability of Article XXIV agreements as a means of increasing freedom of trade. For example, paragraph 4 of Article XXIV provides that: ‘The (Members) recognize the desirability of increasing freedom of trade by the development, through voluntary agreements, of closer integration between economies of the countries parties to such agreements’. Similarly, the preamble of the WTO/GATT 1994 Understanding on Article XXIV – which was added to GATT 1994 as a result of the Uruguay Round – recognizes: ‘the contribu- tion to the expansion of world trade that may be made by closer integration between the economies of the parties to such agreements’; the same idea is reflected in paragraph 7 of the Singapore Ministerial Decision:37‘… regional trade agreements (…) can promote further liberalization and may assist least-developed, developing and transition economies in integrating into the international trading system’.
3.2. The conditional right of WTO Members to form a Regional Trade Agreement This aforementioned recognition of the desirability of regional trade agree- ments is, however, not without qualification. Article XXIV:4 appears to
36. Note, in this context, the statement of the Appellate Body in EC – Bananas III (WT/DS27/AB/R), para. 191: ‘Non-discrimination obligations apply to all imports of like products, except when these obligations are specifically waived or are otherwise not applicable as a result of the operation of specific provisions of the GATT 1994, such as Article XXIV’.
37. SeeWT/MIN(96)/DEC.
recognize that some of these agreements may have detrimental effects and, therefore, the latter half of paragraph 4 of Article XXIV provides:
‘They also recognize that the purpose of a customs union and a free- trade area should be to facilitate trade between constituent territories and not to raise barriers to the trade of other Members with such terri- tories’ (emphasis added).
This sentiment is reiterated in the preamble of the GATT 1994 Understanding on Article XXIV, which provides that: ‘Reaffirmingthat the purpose of such agreements should be to facilitate trade between the constituent territories and not to raise barriers to the trade of other Members with such territories; and that in their formation or enlargement the parties to them should to the greatest possible extent avoid creating adverse effects on the trade of other Members’
(emphasis added).
The terms of Article XXIV:5, thus, confirm that WTO Members have a right – albeit conditional – to conclude regional trade agreements.
Accordingly, the provisions of this Agreement [GATT 1994] shall not prevent, as between the territories of (Members), the formation of a customs union or of a free-trade area or the adoption of an interim agree- ment necessary for the formation of a customs union or of a free-trade area; Provided that … :’
The GATS Agreement provides for rules on RTAs, the logic of which is roughly similar to those of the GATT. The first paragraph of Article V38 recognizes the right of Members to enter into an RTA that would include trade in services under certain conditions. The conditions for a WTO com- patible RTA, mentioned in paragraphs 4, 5 and 8 of the GATT and in paragraphs 2 and 4 of the GATS, are discussed in Sections V to VII below.
3.3. The notification of RTAs and their examination by the WTO 3.3. membership
RTAs must be notified to other WTO Members who, in turn, can then request the establishment of a working group to examine the compatibility of such an agreement with the GATT.39GATT Contracting Parties have always been required to monitor the formation of such regional trade agreements. Article XXIV:7(b) provides that Members shall make available any information regarding the proposed CU or FTA that will enable the membership to make such reports and recommendations to [Members] as they may deem
38. Seethe text of Article V of GATS, annexed herewith.
39. Article XXIV(7) of GATT 1994.
appropriate. Such an examination, by the entire membership, was done by working parties established to review specific RTAs. It is important to note that the GATT Contracting Parties – and, today, the WTO Members – do not need to authorize such RTAs. The WTO membership does not give the
‘green light’ to RTAs; at best, WTO Members may show a ‘red light’ to an RTA. But, since WTO Members take decisions by consensus (including the RTA States and countries likely to be affected by a proposed RTA), only one RTA has ever been the object of a formal recommendation to accept an RTA, or to amend its components.40
As with RTAs on merchandise, RTAs involving trade in services must be notified to Members [to the Council for Trade in Services, Article V:7(a)].
Such RTA Members shall make available to the Council such relevant information as may be requested by it. It is also envisaged that the Council may establish a working party to examine such an agreement, enlargement, or modification of that agreement and to report to the Council on its consistency with this Article.
In 1996, the WTO General Council established the Committee on Regional Trade Agreements (CRTA),41 with the mandate of, inter alia, examining all RTAs notified to the Council for Trade in Goods (CTG) under GATT Article XXIV. The CRTA is, likewise, entrusted with the examina- tion of those RTAs notified under the Enabling Clause42and under GATS Article V, and those referred to it by the Committee on Trade and Development (CTD) and the Council for Trade in Services (CTS), respec- tively. The mandate of the CRTA also includes consideration of ‘the systemic implications of [RTAs] and regional initiatives for the multilateral trading system and the relationship between them’.43The same WTO body is, thus, entrusted with the function of examining all WTO RTAs. It should, however, be noted that in the case of RTAs notified pursuant to the Enabling Clause, any formal review process by the entire membership is not provided for.
Until the Panel and Appellate Body Reports on the dispute between Turkey and India, as discussed hereafter, no adopted Panel reports had shed any light on the meaning of the provisions of Article XXIV and the conditions that they must fulfill in order to be compatible with the GATT/WTO.
There were only a series of working group reports where individual contracting parties, or WTO Members, expressed their views of the GATT and WTO compatibility of certain RTAs, or aspects of such RTAs.
40. The 1994 customs union between the Czech Republic and the Slovak Republic, Working Party Report, GATT document L/7501, dated 4 October 1994.
41. WT/L/127.
42. The possibility of RTA by developing countries Members pursuant to the Enabling Clause is discussed in Section VII:A below.
43. WT/L/127, para. 1(d).
4. The Panel and Appellate Body Reports in the Turkey – Textilesdispute44 4.1. The facts of the dispute between India and Turkey:
3.3. The EC-Turkey customs union
In the context of the Turkey-EEC Association Agreement (the origin of which dates back to 1963), Turkey imposed quantitative restrictions against textile imports pursuant to a March 1995 Decision setting out certain modalities for the final phase of the association between Turkey and the European Communities (EC) for the completion of the customs union. Turkish quantitative restrictions were applied on imports from India of 19 categories of textile and clothing products.
As a consequence of the aforementioned quantitative restrictions imposed by Turkey, India challenged the WTO compatibility of the new import restrictions by alleging violations of Article XI of GATT and Article 2 of the Agreement on Textiles and Clothing (both Articles prohibiting quanti- tative restrictions). Turkey’s defense was that, pursuant to Article XXIV:8(a),45 it was obliged to harmonize its external trade policy46with that of the EC and, thus, was required to impose quotas on textile imports (since the EC had in place a series of WTO compatible textiles quotas).
The issue was, therefore, whether Turkey was entitled to violate Article XI of GATT and Article 2 of the Agreement on Textiles and Clothing (ATC), invoking its rights to form an RTA pursuant to Article XXIV of GATT.
4.2. Panels and the Appellate Body can decide on the WTO compatibility of 3.3. any Regional Trade Agreements
The first issue (which was, however, incidental in that dispute) was whether the WTO adjudicating bodies have the jurisdictional capacity to assess the overall compatibility of RTAs. Paragraph 12 of the WTO/GATT 1994 Understanding on Article XXIV provides that panels and the Appellate Body have jurisdiction to examine ‘any matters arising from the application of those provisions of Article XXIV’ (emphasis added).
For the Panel, this meant that WTO adjudicating bodies could examine the WTO compatibility of one or several measures ‘arising from’ Article XXIV types of agreement. The Panel was, however, of the view that the CRTA appeared to be, generally, in a better position to assess the overall GATT/WTO
Gabrielle Marceau and Cornelis Reiman
44. For a general discussion on the panel and Appellate Body Report on Turkey – Textiles, see James Mathis, ‘WTO, Turkey – Restrictions on Imports of Textiles and Clothing Products’, Legal Issues of European Integration (1999), Vol. 27, 200-1, at p.103
45. SeeArticle XXIV:8(a) annexed to this article.
46. Article XXIV:8(a)(ii) refers to the obligation for members of a customs union to have
‘substantially the same duties and other regulations of commerce’.
compatibility of a customs union, since it involves a broad multilateral assessment of any such custom union, i.e. a matter that concerns the WTO membership as a whole.47Such a review exercise subsumes a very complex undertaking that involves consideration by the CRTA – from the economic, legal and political perspectives of different Members – of the numerous facets of a regional trade agreement in relation to the provisions of the WTO. However, the Appellate Body indicated – albeit in an obiter dictum – that WTO Panels or the Appellate Body, have jurisdiction and, thus, the capacity to assess whether any specific customs union is in full compliance with all the requirements of Articles XXIV of GATT and V of the GATS.48 4.3. Conditions under which Article XXIV can be invoked as a defense to 3.3. violations of other GATT/WTO provisions: the test suggested by the 3.3. Appellate Body
The Panel had concluded that, in the absence of legal conflict, and taking into account the obligation for an effective interpretation of Article XXIV, WTO Members were obliged to comply with the general obligations of Articles I and XI while pursuing their right to form RTAs pursuant to Article XXIV.
This implied that only in situations of an impossibility to comply with both sets of provisions should basic obligations of GATT/WTO be set aside in the formation of any RTA in favour of the right expressed in Article XXIV, with this being a more specific provision.
The Appellate Body established an arguably more restrictive test. First, it emphasized the legal fact that Article XXIV is an exception and, as such, can be invoked as a defence, but under strict conditions. Thus, the Member invoking such an exception bears the burden of proof that the conditions of Article XXIV have been respected. Then, the Appellate Body stated that Article XXIV could be invoked to justify a WTO incompatible measure only if three conditions are respected by the Member invoking Article XXIV.
The conditions are as follows. First, the deviation from the WTO rules must take place upon the formation of the RTA; they cannot be adopted after the creation or completion of the RTA. Second, the Member invoking
47. Seepara. 9.52 of the Panel Report. The Panel also added (at para. 9.53) that it is arguable that a customs union (or a free-trade area), as a whole, would logically not be a ‘measure’ as such, subject to challenge under the DSU.
48. Seepara. 60 of the Appellate Body Report where it is stated: ‘ (…) The Panel maintained that
‘it is arguable’ that panels do not have jurisdiction to assess the overall compatibility of a customs union with the requirements of Article XXIV. We are not called upon in this appeal to address this issue, but we note in this respect our ruling in India – Quantitative Restrictions on Imports of Agricultural, Textile and Industrial Products on the jurisdiction of panels to review the justification of balance-of-payments restrictions under Article XVIII:B of the GATT 1994 (original footnote 25, paras. 89–109 of the AB Report on India – Agricultural Products, WT/DS90/AB/R, adopted on 22 September 1999).’
rules on RTAs to justify its actions must prove that its RTA is in full com- pliance with both paragraphs 5 and 8 of Article XXIV. Third, the specific measure challenged (i.e. the measure was, otherwise, inconsistent with the GATT rules) must be necessary for the formation and completion of the RTA.
The Appellate Body stated:
52. Given this proviso, Article XXIV can, in our view, only be invoked as a defence to a finding that a measure is inconsistent with certain GATT provisions to the extent that the measure is introduced upon the formation of a customs union which meets the requirement in subpara- graph 5(a) of Article XXIVrelating to the ‘duties and other regulations of commerce’ applied by the constituent members of the customs union to trade with third countries. … (emphasis added)
58. Accordingly, on the basis of this analysis of the text and the context of the chapeau of paragraph 5 of Article XXIV, we are of the view that Article XXIV may justify a measure which is inconsistentwith certain other GATT provisions. However, in a case involving the formation of a customs union, this ‘defence’ is available only when two conditions are fulfilled. First, the party claiming the benefit of this defence must demon- strate that the measure at issue is introduced upon the formation of a customs union that fully meets the requirements of subparagraphs 8(a) and 5(a) of Article XXIV. And, second, that party must demonstrate that the formation of that customs union would be prevented if it were not allowed to introduce the measure at issue. Again, both these conditions must be met to have the benefit of the defence under Article XXIV.
(emphasis added)
59. We would expect a panel, when examining such a measure, to require a party to establish that both of these conditions have been fulfilled. It may not always be possible to determine whether the second of the two conditions has been fulfilled without initially determining whether the first condition has been fulfilled. In other words, it may not always be possible to determine whether not applying a measure would prevent the formation of a customs union without first determining whether there is a customs union.
The Appellate Body did not, however, offer any indication as to how such compliance with these conditions can be demonstrated. We attempt to do so in the following sections.
5. Proving the compatibility of a customs union with paragraphs 5(a) 5. and 8(a) of Article XXIV of GATT 1994 (and the parallel provisions 5. of GATS)
A fundamental issue remains as to how WTO Members can demonstrate that they fully meet the requirements of paragraphs 5 and 8 of Article XXIV, as a required pre-condition for a Member to prove that a measure violating other WTO rules was ‘necessary to the formation’ of a customs union.49
Paragraphs 5 and 8 contain requirements that such RTAs must meet, taking into account the parameters of paragraph 4 of Article XXIV. It is not unrea- sonable to assume that paragraphs 5 and 8 of Article XXIV were drafted with a view to suggesting criteria that would ensure the respect of the para- meters of paragraph 4, i.e. some balancing between, on the one hand, the desirability of facilitating trade between the constituent territories and, on the other hand, the undesirability of raising barriers to the trade of other WTO Members. In this sense, the provisions of paragraph 4 can be seen as a form of an encapsulation of the overall assessment of associated trade diversion and trade creation.
This seems to have been accepted by the Appellate Body when it stated:
57. … This objective demands that a balance be struck by the con- stituent members of a customs union. A customs union should facilitate trade within the customs union, but it should notdo so in a way that raises barriers to trade with third countries. We note that the Understanding on Article XXIV explicitly reaffirms this purpose of a customs union, and states that in the formation or enlargement of a customs union, the constituent members should ‘to the greatest possible extent avoid creating adverse affects on the trade of other Members’
(emphasis added).
Article XXIV:5 provides the test of the impact of a customs union on the whole vis-à-vis third parties. But there is a direct link between paragraph 8 and paragraph 5 of Article XXIV. The type and the level of harmonization chosen by the CU states, pursuant to paragraph 8, must, in the light of paragraph 5 of Article XXIV, take into account the impact of such choices.
Paragraph 8(a)(i) of Article XXIV governs the internal trade between constituent members of a customs union. Paragraph 8(a)(ii) governs the trade of the constituent members with third countries (and not the trade between the constituent members themselves). There is, thus, a direct link between the internal trade policy choices of a CU and its external trade.
Let us now examine those requirements.
5.1. Article XXIV, subparagraph 8(a)(i) – the internal requirements
With regard to customs unions, paragraph 8(a)(i) of Article XXIV provides that duties and other restrictive regulations of commerce are eliminated on
‘substantially all the trade between the constituent territories’. There have been long debates regarding the meaning of the term ‘substantially all the trade’
and the consequential extent of the CU coverage. The classic reference is the statements made in the report of the working party on EFTA – Stockholm Convention (albeit an FTA) that substantially all the trade had qualitative, as well as a quantitative, aspects and that – since 90 per cent of trade was covered – such an FTA would be considered to cover substantially all the trade, even if agriculture was excluded.50 There have always been two approaches among GATT contracting parties and, today, WTO Members. Some are of the view that the concept ‘substantially all the trade’ requires a quantitative assessment. Those states favour the definition of a statistical benchmark, such as a certain percentage of the trade between the parties, to indicate that the coverage of a given RTA fulfils the requirement. Others are of the view that a qualitative assessment is required. For them, no sector (or, at least, no major sector) can be excluded from the intra-liberalization of a CU where the amount of trade was small before the formation of the RTA due to the restrictive policies in place, as would be the case if a quantitative approach were used.
Three points can now be made. First, if it is true that subparagraph 8(a)(i) offers some flexibility, it is worth noting that, in the area of GATS, Members made clear that ‘agreements should not provide for the a priori exclusion of any mode of supply’. It is, therefore, most doubtful that the exclusion of an entire sector of trade in goods, such as agriculture, would be considered compatible with Article XXIV. Second, in Turkey – Textiles, the challenged regulations on textiles – which represented, at most, 4.5 per cent of Turkey’s external trade – ‘… could not be considered in this case to jeopardize the requirement of Article XXIV:8(a)(ii) that substantially the same regulations of commerce are to be applied by Turkey and the European Communities to third countries. The fact that this proportion of trade is regulated in a different way by Turkey cannot be seen to contradict the requirements of Article XXIV:8(a)(ii).’51Third, the policy choices made by the CU States with regard to their internal integration framework, will have a direct impact on their external regulatory framework, whereby the level of internal integra- tion will attract a higher level of external harmonization. Yet, as noted by the Panel in Turkey – Textiles, subparagraphs 8(a)(i) and 8(a)(ii) address distinct
49. Note that paras. 5 and 8 of Article XXIV have provisions for free-trade areas but the discus- sion hereafter focuses only on customs unions.
50. Working Party Report on EFTA – Examination of the Stockholm Convention, L/1235, adopted on 4 June 1960, BISD 9S/70.
but inter-linked policies. Therefore, the inclusion of a sector within the coverage of a CU, i.e. the removal of all trade barriers in respect of products of that sector between the constituent members of the CU, does not neces- sarily imply that those constituent members must apply identical barriers, or barriers having similar effects to imports of the same products from third countries.
Finally, an important issue that remains to be clarified is the scope of the exceptions listed between parentheses in paragraph 8(a)(i) and whether safe- guard measures may still be used within an RTA and, if so, how this can be done. The recent ‘parallelism approach’ developed by the Panel and the Appellate Body in Argentina – Footwear52 and US – Wheatgluten53 would appear to accept such internal safeguard measures, as long as substantially all the trade is covered and as long as the level of safeguard protection imposed on imports from third countries (not being members of the CU) corre- sponds to their increased level of exports causing the injury to the situation of the member of the CU imposing the safeguard measure.
5.2. Article XXIV, subparagraph 8(a)(ii) – the external requirements
Article XXIV:8(ii) provides that States forming the CU must have ‘substan- tially the same duties and other regulations of commerce’ with regard to the trade of territories not included in the CU. It is, generally, said that such CU States must ‘harmonize’ their trade policies. The Appellate Body in Turkey – Textilesstated, in this context, that the constituent members of a CU are, thus, required to apply a common external trade regime, one relating to both duties and other regulations of commerce. The Appellate Body stated that it agreed with the Panel that:
[t]he ordinary meaning of the term ‘substantially’ in the context of sub-paragraph 8(a) appears to provide for both qualitative and quanti- tative components. The expression ‘substantially the same duties and other regulations of commerce are applied by each of the Members of the [customs] union’ would appear to encompass both quantitative
51. Panel Report on Turkey – Textiles, para. 9.153.
52. Appellate Body Report on Argentina – Footwear(WT/DS121/AB/R) adopted on 12 January 2000, para. 112.
53. Appellate Body Report on US – Wheat Gluten from the EC(WT/DS166/AB/R) adopted on 19 January 2001, at para. 96: ‘In Article 2.1, the phrase would embrace imports from allsources whereas, in Article 2.2, it would exclude imports from certain sources. This would be incon- gruous and unwarranted. In the usual course, therefore, the imports included in the determi- nations made under Articles 2.1 and 4.2 should correspond to the imports included in the application of the measure, under Article 2.2.’
and qualitative elements, the quantitative aspect more emphasized in relation to duties.54
The Appellate Body agreed with the Panel that, in the terms of subpara- graph 8(a)(ii), and – in particular – the phrase ‘substantially the same’:
… offer[s] a certain degree of ‘flexibility’ to the constituent members of a customs union in ‘the creation of a common commercial policy.’
Here too we would caution that this ‘flexibility’ is limited. It must not be forgotten that the word ‘substantially’ qualifies the words ‘the same’.
Therefore, in our view, something closely approximating ‘sameness’ is required by Article XXIV:8(a)(ii) (emphasis added).55
In Turkey – Textiles dispute, Turkey’s trade in textiles with third coun- tries represented less than 4.5 per cent of Turkey’s external trade. It was, thus, considered that, for the Turkey-EC CU to be GATT compatible, Turkey’s duties and regulations concerning textiles with third countries did not need to be harmonized with those of the EC.
Yet, if the implied ultimate and ideal situation is that the constituent members of the CU adopt a complete single common foreign trade regime, a series of different arrangements are possible. But, in all cases, the forma- tion of a CU will necessitate important harmonization of duties and other regulations of commerce. In the light of paragraph 4, the requirements of paragraph 5 must be taken into account by RTA States in the determina- tion of how harmonization should proceed, particularly since such harmonization should not lead to increased barriers to trade with third countries.
5.3. Article XXIV, paragraph 5 – the overall impact of the RTA
As discussed above, even the most orthodox economist will admit that any trade diversion/trade creation assessment of the incidence of a CU is extremely difficult to perform in a prospective manner and even more so when many products (and services) are traded. It may be for this reason that Members tried to improve and clarify this assessment prescribed in paragraph 5(a) in the GATT 1994 Understanding on Article XXIV56by dividing it into two types of evaluations: the impact of tariffs and that of other regulations of commerce.
It is not clear whether the requirement – that the incidence of the CU
54. Seepara. 49 of the Appellate Body Report on Turkey – Textiles, which contains this quote from para. 9.148 of the Panel Report.
55. At para. 50 of the Appellate Body Report in Turkey – Textiles.
56. The relevant provisions of the Understanding in annex.
should not be more restrictive after formation than before – is to be assessed separately for duties and other regulations of commerce, or whether paragraph 5 mandates an overall assessment based on two components: the impact of duties and the impact of new regulations of commerce. It is accepted that the test under paragraph 5 is an economic one.57The test refers to ‘applied’
tariffs, not bound tariffs: so, the assessment is to be based on the effective trade between states, not upon the assessment of their rights to collect duties up to their bound levels. This does not, however, mean that it must be mathematical and that the results ought to be quantifiable. Such an economic assessment can be qualitative, and may very well be so when assessing the incidence of other regulations of commerce.
Arguably, the incidence of duties may be more easily quantifiable. The incidence of other regulations of commerce, most often, will not be so. This leads us to believe that, because of their very different nature, the impact of duties – on the one hand – and the impact of other regulations of commerce – on the other hand – may not be easily compared with, and balanced against, each other. However, import restrictions in the form of quotas or regula- tions can, at least conceptually, be translated into tariff levels. In support of the reasoning that it is the overall incidence of the effects of duties, together with that of other regulations of commerce that is mandated by paragraph 5, one may refer to paragraph 4 of Article XXIV, which proscribes RTAs from ‘rais[ing] barriers to trade with third countries’; then, any form of barrier is referred to. This also seems to be the more recent intentions of Members when they adopted the Understanding (WT/REG/3) to expand the exami- nation mandate of the CRTA58 to include, in the examination of the compatibility of an RTA with Article XXIV, all measures covered by any of the agreements of Annex 1A:
the mandate to examine the incidence and restrictiveness of all duties and regulations of commerce, in particular those governed by the provisions of the Agreements contained in Annex 1A of the WTO Agreement … it would be to ascertain whether on the whole the general incidence of the duties and other regulations of commerce has increased or become more restrictive
57. Seethe Appellate Body Report in Turkey – Textiles, para. 55: ‘… we also agree [with the Panel]
that this is: “an economic test for assessing whether a specific custom union is compatible with Article XXIV”.’
58. The mandate for examination of RTAs normally reads as follows: ‘to examine, in light of the relevant provisions of the GATT 1994 …’. Since this terminology refers only to the GATT 1994 and does not specify whether the examination may also be carried out against the background of all WTO Agreements relating to trade in goods, it was agreed to expand the terms of reference through an understanding.
